UBS Sees Short-Term Rig Bubble, Downgrades Noble, Transocean

By Ben Levisohn

The last three months have been difficult ones for offshore drilling stocks. And their performance could get even worse, says UBS.

Associated Press

Diamond Offshore (DO) has fallen 10% during the past three months, Ensco (ESV) has dropped 13%, Noble Corp. Energy (NE) has dipped 9.4% and Transocean (RIG) is off 12%. That hasn’t stopped UBS analyst Angie Sedita from cutting her ratings the stocks today, on concerns that rates paid for rigs will flatten out. Sedita writes:

Technically the group has already seen a fairly sharp underperformance versus the rest of the sector. Accordingly, we would not be completely surprised to see a bit of a near-term bounce.

We are reducing most of our price targets for offshore drillers assuming modestly lower target EV/EBITDA multiples. In prior cycles as dayrates begin to flatten the multiples begin to contract. In a rising dayrate environment multiples tend to expand.

Now about that bubble. The industry is expected to add 20 new rigs, or 16%, in 2013, 21 new rigs, or 14% in 2014 and 13 new rigs, or 7.8% in 2015, and Sedita believes the new rigs create the “potential for short-term bubble.” She writes:

We believe there could be potential near-term excess capacity for ultradeepwater rigs in 2014 given a substantial number of newbuild rigs entering the market in a short span of time, as well as a bit sluggish demand in some regions (Brazil, West Africa). Long-term we believe demand is strong and the market will absorb the rigs over time. In the near-term we believe all of the ultradeepwater newbuilds will find contracts; however, dayrates will likely remain flat over the coming years and we see no rate upside. The risk to utilization and dayrates is in the lower-specification mid-water and deepwater markets. We believe over the near-term that some of these lower specification rigs could see idle time between contracts and a bit softer dayrates.

One company was spared a downgrade, however: Rowan (RDC), which trades at a 14% discount to its peers, Sedita says. She also notes that the offshore drillers should generate more than enough free-cash flow to boost their dividends in the years ahead.

Diamond Offshore has fallen 0.2% to $65.49 today, Ensco has gained 0.2% to $55.80, Noble has advanced 0.8% to $38.32, Rowan has risen 0.8% to $35.37 and Transocean has climbed 1.1% to $47.06.

Correction: This article originally misidentified the company that accompanies ticker the ticker NE. Its Noble Corp., not Noble Energy.

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There are 5 comments

AUGUST 20, 2013 5:29 P.M.

Steve Beshakis wrote:

Ms. Sedita fails to mention that most of those newbuilds are already under contract for 3-5 years at high dayrates. So, barring a callapse in oil prices and contract cancellations, any overcapacity is at least 3 years away. In the meantime, the drillers should see double-digit growth through 2015.

AUGUST 21, 2013 10:22 A.M.

James wrote:

NE =Noble Drilling not Noble Energy.

AUGUST 23, 2013 10:42 A.M.

Kelly wrote:

fyi there is an error in the first sentense. the offshore driller is Noble Drilling (NE). Noble Energy is (NBL)

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